The Difference Between the Hug and Nelson Formulas as Applied to Intermediate Stock Options/RSUs
There are two (2) prevailing methods for allocating the community versus separate property interests in intermediate stock options (options that were awarded during the marriage but will vest after the date of separation) – namely: the Hug formula (from the Marriage of Hug case) and the Nelson formula (from the Marriage of Nelson case). The Hug formula is typically more favorable to the community, while the Nelson formula is typically more favorable to the employee spouse.
Under the Hug formula, the number of options determined to be community property is the product of the following fraction: the numerator is the total months between commencement of employment and the date of separation, and the denominator is the total months between the commencement of employment and the date when each option vested; this fraction is then multiplied by the number of shares of stock which could be purchased on the date each option vested.
(Start Date – Date of Separation)
(Start date – Date of Vest)
In the Marriage of Hug case, the Court recognized that stock options could be construed, depending on the particular facts of the case, as compensation for either past, present or future services or a combination of these. The Court in Marriage of Hug found that the stock options were granted in part to entice the husband to leave his prior job and in part as an incentive to work hard in the future. Therefore the Court found that the husband was earning the options from the date his employment started to the date the options vested.
On the other hand, under the Nelson formula, the numerator is the number of months from the date of grant of each block of options to the date of separation, and the denominator is the period from the time of each grant to its date of exercisability.
(Date of Grant – Date of Separation)
(Date of Grant – Date of Vest)
In the Marriage of Nelson case, the Court observed that the options in Marriage of Hug were designed to attract new employees and more generously reward past services; however, in the Marriage of Nelson case only prospective increases in the value of the stock could result in a profit to the employee option holder and therefore the Court determined that it was appropriate to place more emphasis on the period following each grant to the date of separation than on the employee’s entire tenure with the company up to the time of separation.